This week we delve into the potential reconfiguration of the USD's status, and where it might lead short-term trades.
Europe remains the centre for macro concerns, with the US not far behind as traders question whether or not their economies will re-enter recession. Rather than focussing on a return on investment, traders have been more concerned about capital preservation in this uncertain economic environment. With the traditional safe-haven Swiss franc no longer a viable option, there's been talk that the Australian dollar could take its place.
Global currency wars
- Switzerland: G7 governments have pretty much run out of ammunition on a fiscal level, and consensus among the investment community seems to be that central banks should be encouraged to stimulate growth. Last week, the Swiss National Bank indicated that enough is enough and put a floor under the EUR/CHF cross at 1.20, suggesting it will aggressively defend this level in a bid to help the bottom line of companies like Nestle and UBS. Having a cheap currency has never been as appealing as it is now because it helps improve the trade balance by stimulating exports, subsequently helping GDP growth.
- Japan: Similarly, the Bank of Japan has been jawboning that they also are watching forex markets closely, and could intervene at any stage by selling yen. This could happen again, despite previous attempts being completely ineffective both on an unilateral and collective basis.
- USD policy effects: The US has been running with a weak US dollar policy for some time now. Until last week, it was at or near record lows on a trade-weighted basis. Emerging market nations such as Brazil have also had enough and put measures in place to curb capital inflows and devalue their currencies, whilst China has been keeping its low for years.
Now, the only 'traditional' safe havens for investors that may not be potentially negatively impacted by central bank intervention are US treasuries, (which, when adjusted for inflation give near negative returns) and gold. However, investors would view the precious metal's recent moves of $100-plus as hardly safe haven behaviour!
A new safe haven
The Norwegian krone
One currency being touted as a potential safe haven is the Norwegian krone. The rationale behind this is its compelling current account surplus, reasonably high yield and the realistic possibility of a near-term rate hike.
The Australian dollar
The fundamentals behind the Australian dollar are perhaps even more compelling; it has the most attractive yield in the developed world (the Australian ten-year treasury yields is 215 basis points over US treasuries), and its biggest export partner, China, is still a beacon of strength. The AUD also has a well capitalised and sound banking system and, by 2013, should (in theory) have its budget back into surplus.
The USD remains king
Recent price action in the Australian dollar though, is telling us that it is not a safe haven in any shape or form. Just look at the correlation it has with the wild swings in risk appetite:
- The AUD/USD fell from a record high of 1.1081 on July 27 to 0.9928.
- Nine days later, we saw a drop of 10.4% or 1153 points, while in the same time frame, the ASX 200 fell 17.6%.
- When confidence returned, the pair saw an aggressive rebound to 1.0765; a gain of 8.4%.
It is not just that traders have seen the USD as overly attractive versus the Aussie. If you monitor its performance versus all G10 currencies since the start of September, it has convincingly moved lower across the board, with the exception of the Swiss franc. In comparison, the USD has gained in the same period.
Potential trading opportunities
From a technical perspective, the AUD/USD is flirting with key support at 1.0248 (the 61.8% retracement of the recovery from 0.9928 to 1.0764). It has found buyers on numerous occasions at this level before, however a break below here would be very bearish and open up a move toward 1.0111 (the August 11 low), and perhaps a retest of the recent low at 0.9929. Our view is that any strength could be used as a selling opportunity, with a retest of the lows likely in the near term.
Despite the US running a massive budget deficit with no credible plan to reduce this in the long term, the recent downgrade from S&P, massive amounts of political wrangling and being on the verge of another recession, it is still the place to be in times of trouble. The dollar index (a basket of six major currencies relative to the USD) has clearly broken out following a period of consolidation. A slight pullback from here would likely see traders looking to re-enter long positions.
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Updated: 16/09/2011
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